Top tips for financial institutions looking to address fraud in invoice financing

Despite new technologies and processes aiming to help root out fraudulent activity, fraud continues to be a major issue for the asset-based finance (ABF) industry. Only last year UK-based invoice financing platform Urica was forced out of business by a one-off event occurring in France.  For any financial institution lending money against invoices, fraudulent invoices pose a significant and often disproportionate threat to their business.

However, despite its prevalence, fraud is still often addressed as a passive event where a post-mortem identifies the red flags that were missed – meaning the loss isn’t prevented and often not enough is done to reduce the likelihood of it happening again. Time and time again lenders aren’t doing enough to actively reduce their exposure to fraud risk.

Below, I offer my insights into fraud detection and prevention, and outlines tips for ensuring how banks and other financial institutions can minimise their losses and maximise recoveries should a fraud occur in their invoice financing business.

 Invest in the latest – and best – technology

New technology is being relentlessly developed in the financial sector, often with the primary goal to make firms’ lives easier by simplifying, streamlining and digitalising processes, such as unified ledger integration and digital invoicing - but it can also play a critical role in risk management and detecting and preventing fraud.

This is why banks and financial firms that invest in the most effective technology help ensure that they remain one step ahead of those looking to exploit or defraud financial institutions various malpractice means. This can include ‘fresh air invoices’, which are issued purely to raise finance from a factor when there is no underlying transaction or value attached to; overstated value invoices, or pre-invoicing ahead of shipment.

A continual review of data processes, combined with real-time risk assessments and alerts via the latest technology such as what our HPD Lendscape platform offers, enables financial institutions to identify patterns of behavior that have in the past lead to fraud.  This gives them the opportunity to act early, verify that the debt is genuine and, if indeed fraud is taking place, to take immediate action.

Human element – invest in your people

While investing in the right technology is important, it is equally critical to ensure that those using it truly understand it. In fact, though there may be weaknesses in the software, it is frequently the human element which can be the most vulnerable aspect of the lender’s security.

Having employees without a good grip of the technology they are using has led many businesses to be more vulnerable to attack from fraud as complicated processes and loopholes can be taken advantage of and exploited. Businesses should put systems in place to ensure that all staff are fully trained in areas such as cybersecurity and data protection, understanding what information needs to be shared and where, and making sure that they keep sensitive credentials secure.

Data is the best weapon in detection and prevention

A hugely useful tool technology can provide is quick and automated data reporting, which helps ensure that infrequencies in reporting can be detected and responded to effectively and financial organisations are able to respond quickly to any signs of user fraud.

Lenders can accumulate vast amounts of data at very granular level. Advances in data analytics and reporting can provide insights into the underlying trends and enable inconsistencies to be detected, so that financial organisations are able to respond quickly to telltale signs of fraudulent activity.

Estimates suggest that frauds last a median of 18 months before being detected – a period that could be significantly reduced by employing automating technology. Detecting fraud earlier means fewer losses and a less disastrous outcome for the business.

Understand the motives and methods of fraud

Understanding what characterises fraud will reduce a lender’s exposure to this risk. Fraud from an asset-based finance (ABF) perspective is complicated by processes and varying levels of accessibility - analysing historic data of when fraud has occurred can help predict and highlight potential future fraudulent activity.

It is also crucial to understand the myriad ways a fraud can be perpetrated. For example, a company may conceal financial problems or misdeeds by shifting payments by applying one payment to another account, sending inflated invoices to skim the excess from the payment sent in, or by creating fabricated invoices or customers to artificially inflate the value of the collateral.

Working to understand those who commit fraud, and the different forms of fraud that can take place, will offer financial institutions greater protection against the business and reputational damage that malpractice can cause. There are the out an out villains who specifically target the asset-based finance with sophisticated, premeditated strategies. In contrast, there are the circumstantial fraudsters who, believing that it will be “all OK in the end”, try to “game the system” to cover short-term cash flow difficulties. Understanding the propensity to commit fraud is of paramount importance in understanding those you commit it.

Encourage business clients to embrace technology

 Financial institutions should encourage their corporate clients to upgrade their own approach to how they deal with invoices. Embracing electronic forms of invoicing, having systems that can easily cross-refer invoices and match-paperwork can be critical in combating fraud in this area

Businesses that have adopted e-invoicing for their commercial activity are automatically operating in a controlled and highly auditable environment, hence why so many governments around the world are now enforcing digital invoicing to deal with frauds relating to VAT and tax. With the trend towards BlockChain-enabled trade, we can expect to see a greater reliance on the digital footprint of commercial transactions to reduce the ability to commit fraud. However, we must always remember that whatever defences are erected, the fraudsters are always looking for vulnerabilities to be exploited.

Promote an industry wide approach

While banks and business should take their own preventive measure to minimise fraud, collective action should also be considered. Establishing an industry-wide code of conduct can help, where adequate safeguards are put in place, warnings are shared, and punishments are implemented, to restrict any continued perpetrator’s use of invoice factoring on recognised platforms. Financial institutions are often embarrassed when frauds occur and are reluctant to share the war stories. Working collaboratively to defeat fraud will provide significant benefits to the industry going forward.